Question: I am about to graduate from college and have been approached by a classmate who says he wants me to join him in a business he will be building from the ground up. His plan, however, is for me to always be the minority shareholder. He indicated that he might hand the company off to me after a few years, but that he would still be 51% owner. Does that seem suspicious? He seems like a nice guy, but I’m just not sure about that arrangement.
Answer: Based on the very limited amount of information you have given, a lot about this situation seems suspicious. But the fact that you would permanently be a minority shareholder does not. People enter into business arrangements all the time in which they will only have a minority position. As long as you’re aware that, despite your status as an owner, you’re going to have little to no say over the strategic direction of the business, you can protect yourself accordingly.
I find it more suspicious that you’re being given any ownership position at all, especially such a large one, if you’re not contributing any capital to the venture. My questions for your classmate would be:
- Why are you offering to give me an ownership position?
- Who gets to decide when I get to take an ownership position in the company, and how large the position will be? Will there be a deadline or event by which it must occur? Is any financial contribution going to be required from me at that time?
- Will I be compensated in the meantime? How?
- Am I going to potentially have any personal liability for the company’s losses and liabilities?
- If this doesn’t work out, what responsibilities will we have to each other as we wind it down?
As a soon-to-be-college graduate, this can be a great time to take a risk like this. You probably don’t have anyone depending on you financially yet. You’re used to living a simple (some might say “deprived”) lifestyle. You’ve got plenty of time to recover financially if it doesn’t work out. You’re about as free as you’re ever going to be roll the dice.
But whatever your current financial situation, if you’re serious about starting up a business with someone, there are questions you will want to be sure are answered and risks that you will want to be sure are mitigated. And while getting a lawyer’s assistance with that will cost you more than the Ramen noodles you’ve probably been subsisting off of for the last few years, it will be money well spent.
There are two possible outcomes for this business: success or failure. Both outcomes have risks for you. You want to be sure that if the business succeeds, you will have the opportunity to enjoy that success as an owner. And if it fails, you want to be sure that your potential personal liability is limited. If either of these things isn’t certain, you need to be compensated accordingly.
Entering a business with someone is a lot like deciding to get married. It’s a big commitment. You need to trust the person. You’re going to be financially intertwined with each other. You might be taking on each other’s liabilities. You’re going to be spending a ton of time together (probably more than you will be spending with your spouse if you have one). And a bad business breakup can look a lot like a bad divorce, with the parties not just trying to get away from each other, but trying to inflict maximum emotional and financial suffering on the way out the door. The tone of your question indicates that you aren’t at that level of comfort with your classmate at which you probably should be before making a commitment like this. You need to proceed cautiously, and probably with the help of a lawyer.
If you’re in the process of starting up a business, either by yourself or with a partner, make sure you know what the legal risks are. Contact me here to discuss your specific circumstances.